Tuesday, June 30, 2009

Federal bank - Mid Cap Banking Stock To Buy For Long Term Investing

Federal Bank is the country’s fourth-largest private bank by balance sheet size. This oldgeneration private bank was set up at Travancore (modern-day Kerala) in 1931, six decades before the bigger newgeneration private banks came up post-reforms. A major chunk of its business is concentrated in the south and Kerala contributes almost half to its loan book. The bank has 624 branches in 24 states and is now increasing its presence in neighbouring states like Tamil Nadu, Andhra Pradesh and Karnataka. A market capitalisation of just over Rs 4,000 crore and a balancesheet size of Rs 39,000 crore make Federal Bank one of the smaller banks in the country, but it ranks high on many key parameters. The bank’s net interest margin (NIM) — which is a measure of spread between the cost of borrowing and yield on loans — was 4.1% in 2008-09, the highest reported by a small bank. Only Kotak Mahindra Bank and HDFC Bank fare better on this count. In fact, the bank has maintained an NIM of about 3.5% for seven years now.

Federal Bank has managed to reduce its non-performing assets (NPA) to one of the lowest within a decade. Its net NPAs formed 0.3% of net advances in 2008-09, bettered by only three other banks. In contrast, the bank was struggling with higher NPAs at the start of this decade as these unrecovered loans formed 10% of its advances in 2000-01.

A dose of capital infusion in 2007-08 improved the bank’s capital adequacy ratio (CAR) to 20.1%. As per the Reserve Bank of India norms, banks have to maintain a minimum CAR of 9%. This shows that Federal Bank has a sufficient capital base. However, the capital infusion has resulted in dilution of return on equity (RoE), which fell from 21.3% in 2006-07 to 12.1% in 2008-09. At the current levels of CAR, the bank does not need to raise capital like other banks and no further dilution is expected in near future. Federal Bank’s net profit has risen at an average rate of 30% in the last three financial years, making it one of the fast-growing banks in the country. A diversified loans portfolio places the bank in a better position to tackle economic slowdown compared to its peers. Loans to corporate, retail and small and medium enterprises segments comprised 37%, 31% and 32% of the total loan portfolio in 2008-09. In the last five years, the bank has increased the share of retail loans in total lending. In 2003-04, retail loans formed only 19% of the loan book.

In a country that continues to face a shortage of housing units, Federal Bank’s strategy of focusing on home loans can not be better timed. In FY 2009 housing loans formed 59% of retail loan book. In fact, secured lending like mortgages helps maintain high asset quality.

The bank also holds 26% stake in life insurance company, which is a joint venture with IDBI Bank and Fortis Insurance Co.

Valuation:Federal Bank is trading at a price-to-earnings multiple (P/E) of 8.4 and a price-to-book value (P/BV) of less than one. The bank has always traded at a huge discount to other private banks because of its chequered history of high NPAs.

In terms of P/BV, the bank is trading at the levels at which many other public sector banks are trading. However, Federal Bank is more efficient than its state-owned rivals. Therefore, there is a scope of upside and an investor looking at longterm gains can invest in this stock.Source: EconomicTimes Investor's Guide

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